Pay Attention to Your Debt-to-Income Ratio

Maria Contreras Maria Contreras is the Marketing Manager at Consumers Credit Union.
  • Posted on 6/9/2015
It’s important to keep track of your DTI ratio as it helps identify your financial standing. DTI makes it easier to compare your income with what you creditors. You’ll recognize when your debt load is too high and if you need to take steps to avoid problems.
The best way to determine how financially stable you are is to calculate your debt-to-income (DTI) ratio. Since each individual has their own unique life and situation, it all comes down to numbers. Although your DTI ratio doesn’t directly affect your credit score, it is a key component of your credit health and can play a role in your credit application when you are applying for a major loan or mortgage. Lenders scrutinize your DTI ratio when you are applying for credit because it helps them evaluate your ability to repay your debts. It is important to keep your DTI ratio low to show that you are not overextended or abusing credit. Lenders tend to set your interest rates according to the risk you pose.

To calculate your DTI ratio, add up all your monthly debt payments and divide them by your gross monthly income. Your gross monthly income is generally the amount of money you have earned before your taxes and other deductions are taken out. For example, if you pay $1,500 a month for your mortgage and another $100 a month for an auto loan and $400 a month for the rest of your debts, your monthly debt payments are $2,000. If your gross monthly income is $6,000, then your DTI ratio is 33 percent. ($2,000/6,000 = 33%)

36% or less is considered good. You’re in great shape and should be comfortable enough to save and invest your money.

37% to 42% is considered safe. Your debt doesn’t consume you, but you may only be saving a little. You may want to take steps to reduce your debt, such as transferring credit card balances to a low-interest card or taking out a loan for debt consolidation.

43% to 49% indicates trouble. You’re not saving anything and finding it more difficult to make ends meet. Consolidating your debt would be a smart move, as well as looking into ways you can earn extra cash to pay down your debt.

Over 50% means you need help. Don’t panic if you’re over 50%, a lot of people are in the same boat, but you should take steps to improve your situation. Speak to a financial counselor or talk to your creditors to learn your options.

If your DTI ratio is low, then you are more likely to have the income necessary to repay your debts. If your DTI ratio is high, then you may be overwhelmed by debt and unable to pay back new debt obligations. The standard rule of thumb is that your DTI ratio should be less than 36 percent. The Consumer Financial Protection Bureau also highlights 43 percent as an important number because it is generally the highest DTI ratio a consumer can have while still being eligible for a Qualified Mortgage.

It is important to keep track of your DTI ratio as it helps you to identify your financial standing. DTI makes it easier to compare your income with what you owe your creditors. You’ll come to recognize when your debt load is too high and whether you need to take steps to avoid debt problems in the future.